UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
D.C.  20549










FORM
10-Q








x
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934


For the
quarterly period ended June 30, 2010


OR





 ̈
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934


For the
transition period from_________ to __________





Commission
File Number 001-14498





BLUEFLY,
INC.


(Exact
name of registrant as specified in its charter)








Delaware
              13-3612110(State
      or other jurisdiction of
                incorporation
      or organization)
              (I.R.S.
      Employer Identification No.)42
      West 39th
      Street, New York, NY
                (Address
      of principal executive offices)
              10018
                (Zip
      Code)





Registrant’s
telephone number, including area code: (212) 944-8000





Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.    Yes x      No
 ̈





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files).    Yes  ̈     No
 ̈





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting
company.  See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act:





Large
      accelerated filer   ̈
                  Accelerated
      filer   ̈
                  Non-accelerated
      filer   ̈
                  Smaller
      reporting company  x(Do
      not check if a smaller reporting
company)





Indicate
by check mark if the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act).    Yes  ̈   
 No x





As of
August 3, 2010, there were 24,607,338 shares of Common Stock, $.01 par value, of
the registrant outstanding.





BLUEFLY,
INC.


TABLE
OF CONTENTS


JUNE
30, 2010





PAGEPART
      I –
                    
                    FINANCIAL
      INFORMATIONItem
      1.
                    
                    Financial
      Statements:Balance
      Sheets as of June 30, 2010 (unaudited) and December 31,
    2009
                    
                    3Statements
      of Operations for the three months ended June 30, 2010 and 2009
      (unaudited)
                    
                    4Statements
      of Operations for the six months ended June 30, 2010 and 2009
      (unaudited)
                    
                    5Statements
      of Cash Flows for the six months ended June 30, 2010 and 2009
      (unaudited)
                    
                    6Notes
      to Financial Statements (unaudited)
                    
                    7 –
      12Item
      2.
                    
                    Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                    
                    13
      – 19Item
      3.
                    
                    Quantitative
      and Qualitative Disclosures About Market Risk
                    
                    19Item
      4T.
                    
                    Controls
      and Procedures
                    
                    19PART
      II –
                    
                    OTHER
      INFORMATIONItem
      6.
                    
                    Exhibits
                    
                    21Signatures
                    
                    
                    
                    22


2


Part
I – FINANCIAL INFORMATION


Item
1. – Financial Statements


BLUEFLY,
INC.


BALANCE
SHEETS





(Unaudited)June 30,
                                
                                
                                December 31,2010
                                
                                
                                2009AssetsCurrent
      assets:Cash
      and cash equivalents
                                
                                $
                                11,576,000
                                
                                
                                $
                                10,049,000Accounts
      receivable — net of allowance for doubtful accounts
                                
                                
                                2,519,000
                                
                                
                                
                                3,319,000Inventories,
      net
                                
                                
                                23,417,000
                                
                                
                                
                                17,668,000Prepaid
      inventory
                                
                                
                                704,000
                                
                                
                                
                                238,000Prepaid
      expenses
                                
                                
                                235,000
                                
                                
                                
                                208,000Other
      current assets
                                
                                
                                513,000
                                
                                
                                
                                513,000Total
      current assets
                                
                                
                                38,964,000
                                
                                
                                
                                31,995,000Property
      and equipment, net
                                
                                
                                3,128,000
                                
                                
                                
                                3,506,000Other
      assets
                                
                                
                                139,000
                                
                                
                                
                                145,000Total
      assets
                                
                                $
                                42,231,000
                                
                                
                                $
                                35,646,000Liabilities
      and Stockholders’ EquityCurrent
      liabilities:Accounts
      payable
                                
                                $
                                4,960,000
                                
                                
                                $
                                4,363,000Allowance
      for sales returns
                                
                                
                                2,396,000
                                
                                
                                
                                2,627,000Accrued
      expenses and other current liabilities
                                
                                
                                986,000
                                
                                
                                
                                2,105,000Deferred
      revenue
                                
                                
                                2,791,000
                                
                                
                                
                                3,516,000Total
      current liabilities
                                
                                
                                11,133,000
                                
                                
                                
                                12,611,000Total
      liabilities
                                
                                
                                11,133,000
                                
                                
                                
                                12,611,000Commitments
      and contingencies (Note 4)Stockholders’
      equity:Common
      stock – $.01 par
      value;  50,000,000 and 200,000,000 shares authorized as of June
      30, 2010 and December 31, 2009, respectively; 24,945,736 and 18,885,239
      shares issued as of June 30, 2010 and December 31, 2009, respectively,
      24,607,338 and 18,552,737 shares outstanding as of June 30, 2010 and
      December 31, 2009, respectively
                                
                                
                                246,000
                                
                                
                                
                                185,000Treasury
      stock
                                
                                
                                (1,824,000
                                )
                                
                                
                                (1,809,000
                                )Additional
      paid-in capital
                                
                                
                                182,369,000
                                
                                
                                
                                172,127,000Accumulated
      deficit
                                
                                
                                (149,693,000
                                )
                                
                                
                                (147,468,000
                                )Total
      stockholders’ equity
                                
                                
                                31,098,000
                                
                                
                                
                                23,035,000Total
      liabilities and stockholders’ equity
                                
                                $
                                42,231,000
                                
                                
                                $
                                35,646,000





The
accompanying notes are an integral part of these financial
statements.


3


BLUEFLY,
INC.


STATEMENTS
OF OPERATIONS


(Unaudited)





Three Months EndedJune 30,2010
                
                
                2009Net
      sales
                
                $
                20,545,000
                
                
                $
                19,858,000Cost
      of sales
                
                
                12,567,000
                
                
                
                11,974,000Gross
      profit
                
                
                7,978,000
                
                
                
                7,884,000Selling
      and fulfillment expenses
                
                
                3,926,000
                
                
                
                4,031,000Marketing
      expenses
                
                
                2,855,000
                
                
                
                1,763,000General
      and administrative expenses
                
                
                1,866,000
                
                
                
                1,929,000Total
      operating expenses
                
                
                8,647,000
                
                
                
                7,723,000Operating
      (loss) income
                
                
                (669,000
                )
                
                
                161,000Interest
      expense to related party stockholders
                
                
                —
                
                
                
                (275,000
                )Other
      interest expense, net
                
                
                (55,000
                )
                
                
                (72,000
                )Net
      loss
                
                $
                (724,000
                )
                
                $
                (186,000
                )Basic
      and diluted net loss per common share
                
                $
                (0.03
                )
                
                $
                (0.01
                )Weighted
      average common shares outstanding (basic and diluted)
                
                
                24,597,254
                
                
                
                13,843,985





The
accompanying notes are an integral part of these financial
statements.


4


BLUEFLY,
INC.


STATEMENTS
OF OPERATIONS


(Unaudited)





Six Months EndedJune 30,2010
                
                
                2009Net
      sales
                
                $
                40,785,000
                
                
                $
                39,760,000Cost
      of sales
                
                
                24,470,000
                
                
                
                25,101,000Gross
      profit
                
                
                16,315,000
                
                
                
                14,659,000Selling
      and fulfillment expenses
                
                
                7,975,000
                
                
                
                8,425,000Marketing
      expenses
                
                
                6,507,000
                
                
                
                4,780,000General
      and administrative expenses
                
                
                3,957,000
                
                
                
                4,099,000Total
      operating expenses
                
                
                18,439,000
                
                
                
                17,304,000Operating
      loss
                
                
                (2,124,000
                )
                
                
                (2,645,000
                )Interest
      expense to related party stockholders
                
                
                —
                
                
                
                (512,000
                )Other
      interest expense, net
                
                
                (101,000
                )
                
                
                (149,000
                )Net
      loss
                
                $
                (2,225,000
                )
                
                $
                (3,306,000
                )Basic
      and diluted net loss per common share
                
                $
                (0.10
                )
                
                $
                (0.24
                )Weighted
      average common shares outstanding (basic and diluted)
                
                
                22,757,060
                
                
                
                13,838,363





The
accompanying notes are an integral part of these financial
statements.


5


BLUEFLY,
INC.


STATEMENTS
OF CASH FLOWS


(Unaudited)


Six Months EndedJune 30,2010
                        
                        
                        2009Cash
      flows from operating activities:Net
      loss
                        
                        $
                        (2,225,000
                        )
                        
                        $
                        (3,306,000
                        )Adjustments
      to reconcile net loss to net cash used in operating
      activities:Depreciation
      and amortization
                        
                        
                        1,272,000
                        
                        
                        
                        1,591,000Stock
      based compensation
                        
                        
                        284,000
                        
                        
                        
                        329,000Provisions
      for returns
                        
                        
                        (231,000
                        )
                        
                        
                        (1,402,000
                        )Bad
      debt expense
                        
                        
                        156,000
                        
                        
                        
                        189,000Reserve
      for inventory obsolescence
                        
                        
                        128,000
                        
                        
                        
                        (370,000
                        )Amortization
      of discount on notes payable to related party stockholders
                        
                        
                        —
                        
                        
                        
                        175,000Change
      in fair value of embedded derivative financial liability to related party
      stockholders
                        
                        
                        —
                        
                        
                        
                        175,000Change
      in operating assets and liabilities:(Increase)
      decrease in:Accounts
      receivable
                        
                        
                        644,000
                        
                        
                        
                        (224,000
                        )Inventories
                        
                        
                        (5,877,000
                        )
                        
                        
                        5,075,000Prepaid
      inventory
                        
                        
                        (466,000
                        )
                        
                        
                        54,000Prepaid
      expenses
                        
                        
                        (27,000
                        )
                        
                        
                        263,000Other
      assets
                        
                        
                        (15,000
                        )
                        
                        
                        (16,000
                        )Increase
      (decrease) in:Accounts
      payable
                        
                        
                        597,000
                        
                        
                        
                        (3,949,000
                        )Accrued
      expenses and other current liabilities
                        
                        
                        (1,104,000
                        )
                        
                        
                        (693,000
                        )Deferred
      revenue
                        
                        
                        (725,000
                        )
                        
                        
                        (111,000
                        )Interest
      payable to related party stockholders
                        
                        
                        —
                        
                        
                        
                        120,000Net
      cash used in operating activities
                        
                        
                        (7,589,000
                        )
                        
                        
                        (2,100,000
                        )Cash
      flows from investing activities:Purchases
      of property and equipment
                        
                        
                        (889,000
                        )
                        
                        
                        (87,000
                        )Net
      cash used in investing activities
                        
                        
                        (889,000
                        )
                        
                        
                        (87,000
                        )Cash
      flows from financing activities:Net
      proceeds from common stock issuance
                        
                        
                        10,020,000
                        
                        
                        
                        —Purchase
      of treasury stock
                        
                        
                        (15,000
                        )
                        
                        
                        (5,000
                        )Net
      cash provided by (used in) financing activities
                        
                        
                        10,005,000
                        
                        
                        
                        (5,000
                        )Net
      increase (decrease) in cash and cash equivalents
                        
                        
                        1,527,000
                        
                        
                        
                        (2,192,000
                        )Cash
      and cash equivalents – beginning of period
                        
                        
                        10,049,000
                        
                        
                        
                        4,004,000Cash
      and cash equivalents – end of period
                        
                        $
                        11,576,000
                        
                        
                        $
                        1,812,000Supplemental
      disclosure of cash flow information:Cash
      paid for interest
                        
                        $
                        124,000
                        
                        
                        $
                        139,000





The
accompanying notes are an integral part of these financial
statements.


6


BLUEFLY,
INC.


NOTES
TO FINANCIAL STATEMENTS


(UNAUDITED)


JUNE
30, 2010





NOTE
1 – BASIS OF PRESENTATION




The
accompanying financial statements include the accounts of Bluefly, Inc. (the
“Company”). The financial statements have been prepared in accordance with
accounting principles generally accepted in the United States of America for
interim financial information and with the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and footnote disclosures required by accounting principles generally accepted in
the United States of America for complete financial statements. In the opinion
of management, all adjustments (consisting mainly of normal recurring accruals)
considered necessary for a fair presentation have been included. The results of
operations of any interim period are not necessarily indicative of the results
of operations to be expected for the fiscal year due to seasonal and other
factors. For further information, refer to the financial statements and
accompanying footnotes included in the Company's Form 10-K for the year ended
December 31, 2009.





The
Company has sustained cumulative net losses and negative cash flows from
operations since inception.  As of June 30, 2010, the Company had an
accumulated deficit of $149,693,000.  The Company’s ability to meet
its obligations in the ordinary course of business is dependent on its ability
to establish profitable operations, or find sources to fund
operations.  The Company believes that its existing cash balance,
combined with working capital and the funds available from the Company’s
existing credit facility, will be sufficient to enable the Company to meet
planned expenditures through at least the next 12 months.




Concentration




For the
three months ended June 30, 2010 and 2009, the Company acquired approximately
53% and 40%, respectively, of its inventory from one supplier.




For the
six months ended June 30, 2010 and 2009, the Company acquired approximately 44%
and 32%, respectively, of its inventory from one supplier.




NOTE
2 – THE COMPANY





The
Company is a leading Internet retailer that sells over 350 brands of designer
apparel, accessories and home products at discounts of up to 75% off of retail
value.  The Company’s e-commerce Web site, bluefly.com (“Bluefly.com”
or “Web Site”), was launched in September 1998.




NOTE
3 – FAIR VALUE




The
Company’s financial instruments consist of cash and cash equivalents, other
assets, accounts payable and accrued expenses.  The carrying amounts
of these financial instruments approximate fair value due to their short
maturities.




NOTE
4 – COMMITMENTS AND CONTINGENCIES




Leases




The
Company leases space under operating leases that expire on various dates through
2020. In March 2010, the Company entered into a lease agreement extending the
term of the lease for space it already occupies for an additional ten years
ending on December 31, 2020.  Future minimum lease payments under
these operating leases, excluding utilities, which have initial or remaining
non-cancelable terms in excess of one year as of June 30, 2010, are as
follows:





2010
                  
                  $
                  127,0002011
                  
                  
                  386,0002012
                  
                  
                  535,0002013
                  
                  
                  554,0002014
                  
                  
                  573,0002015
      & thereafter
                  
                  
                  3,887,000$
                  6,062,000


7




BLUEFLY,
INC.


NOTES
TO FINANCIAL STATEMENTS


(UNAUDITED)


JUNE
30, 2010


Rent
expense (including amounts related to commercial rent tax) aggregated
approximately $161,000 and $180,000 for the three months ended June 30, 2010 and
2009, respectively, and $320,000 and $373,000 for the six months ended June 30,
2010 and 2009, respectively.




NOTE
5 – STOCKHOLDERS’ EQUITY




Authorized
Shares




The
Company is incorporated in the State of Delaware.  In February 2010,
the Company amended its certificate of incorporation to decrease the number of
authorized shares of Common Stock, $.01 par value per share (the “Common
Stock”), from 200,000,000 shares to 50,000,000 shares and to decrease the number
of authorized shares of Preferred Stock, $.01 par value per share (the
“Preferred Stock”), from 25,000,000 shares to 1,000,000 shares.




Private
Placement




On
December 21, 2009, the Company entered into a Securities Purchase Agreement with
Rho Ventures VI, L.P. (“Rho”) pursuant to which the Company agreed to issue and
sell to Rho up to 8,823,529 newly issued shares (the “Private Placement Shares”)
of its Common Stock for an aggregate purchase price of $15,000,000, or $1.70 per
share, in a private placement transaction (the “Private
Placement”).  The Company issued and sold 2,786,337 of the Private
Placement Shares to Rho at an initial closing (the “Initial Closing”) held on
December 21, 2009 for an aggregate purchase price of approximately
$4,737,000.  The Company received proceeds from the Initial Closing of
approximately $4,468,000, net of $269,000 of issuance costs.




On
February 25, 2010, the Company completed the second closing (the “Second
Closing”) of the Private Placement. At the Second Closing, the Company issued
and sold the remaining 6,037,192 Private Placement Shares to Rho for an
aggregate purchase price of approximately $10,263,000. The Company received
proceeds from the Second Closing of approximately $10,020,000, net of $243,000
of issuance costs.




Registration
Rights and Warrants Issuance




In
connection with the Private Placement, the Company entered into a Registration
Rights Agreement pursuant to which it agreed to file a registration statement
with respect to the Private Placement Shares within 30 days following the date
of the Second Closing (the “Filing Deadline”) and to cause such registration
statement to be declared effective by the Securities and Exchange Commission
within 180 days following the date of the Second Closing (the “Effectiveness
Deadline”). The Registration Rights Agreement provided that we would be
obligated to issue warrants to Rho in certain circumstances if the registration
statement was not filed by the Filing Deadline or declared effective by the
Effectiveness Deadline. The Company filed a registration statement with the
Securities and Exchange Commission covering the Private Placement Shares on
March 10, 2010 and the registration statement was declared effective on May 25,
2010.  As the registration statement was filed within the Filing
Deadline and was declared effective within the Effectiveness Deadline, the
Company did not record any amounts in the financial statements with regards to
warrants.




NOTE
6 – SHARE-BASED COMPENSATION





Authoritative
guidance relating to stock-based compensation requires the Company to measure
compensation cost for stock awards at fair value and recognize compensation over
the service period for awards expected to vest. Total share-based compensation
expense recorded in the Statements of Operations was $201,000 and $151,000 for
the three months ended June 30, 2010 and 2009, respectively, and $284,000 and
$329,000 for the six months ended June 30, 2010 and 2009,
respectively.




In
February 2010, the Company amended its Amended and Restated 2005 Stock Incentive
Plan (the “Plan”) to increase the aggregate number of shares of Common Stock
that may be the subject of stock-based awards granted pursuant to the Plan by
1,500,000 shares and, in June 2010, the Company again amended the Plan to
increase the aggregate number of shares of Common Stock that may be the subject
of stock-based awards granted pursuant to the Plan by an additional 1,586,392
shares.




Stock
Options




The fair
value of options granted is estimated on the date of grant using a Black-Scholes
option pricing model. Expected volatilities are calculated based on the
historical volatility of the price of the Company's Common Stock. Management
monitors


8


BLUEFLY,
INC.


NOTES
TO FINANCIAL STATEMENTS


(UNAUDITED)


JUNE
30, 2010


share
option exercise and employee termination patterns to estimate forfeiture rates
within the valuation model. The expected holding period of options represents
the period of time that options granted are expected to be outstanding. The
risk-free interest rate for periods within the expected life of the option is
based on the interest rate of U.S. Treasury notes in effect on the date of the
grant.




The
following table summarizes the Company’s stock option activity:


Number of
                          
                          
                          Weighted AverageShares
                          
                          
                          ExercisePriceBalance
      at December 31, 2009
                          
                          
                          207,760
                          
                          
                          $
                          9.09Options
      granted
                          
                          
                          1,765,000
                          
                          
                          $
                          2.40Options
      cancelled
                          
                          
                          (15,844
                          )
                          
                          $
                          4.42Options
      exercised
                          
                          
                          —
                          
                          
                          $
                          —Balance
      at June 30, 2010
                          
                          
                          1,956,916
                          
                          
                          $
                          3.09Vested
      at December 31, 2009
                          
                          
                          180,787
                          
                          
                          $
                          9.94Vested
      at June 30, 2010
                          
                          
                          288,196
                          
                          
                          $
                          6.88




During
the second quarter of 2010, 12,136 options were cancelled through normal
employee attrition, of which 1,844 options were vested and 10,292 options were
non-vested. During the second quarter of 2010, 113,730 options
vested.  The total fair value of the options that vested during the
second quarter of 2010 was approximately $199,000.  There were no
options granted during the second quarter of 2010. At June 30, 2010, the
aggregate intrinsic value of the fully vested options was $6,000 and the
weighted average remaining contractual life of the options was approximately
nine years. The Company did not capitalize any compensation cost, or modify any
of its stock option grants during the three and six months ended June 30, 2010.
During the second quarter of 2010, no options were exercised and no cash was
used to settle equity instruments granted under the Company’s equity incentive
plans.




As of
June 30, 2010, the total compensation cost related to non-vested stock option
awards not yet recognized was $2,064,000. Total compensation cost is expected to
be recognized over four years on a weighted average basis.




Restricted
Stock Awards and Deferred Stock Unit Awards




The
following table is a summary of activity related to restricted stock awards and
deferred stock unit awards for employees at June 30, 2010:





Restricted
                
                
                Deferred StockStockAwards
                
                
                UnitAwardsBalance
      at December 31, 2009
                
                
                8,437
                
                
                
                12,314Shares/Units
      granted
                
                
                8,062
                
                
                
                —Shares/Units
      forfeited
                
                
                (750
                )
                
                
                (51
                )Shares/Units
      restriction lapses
                
                
                (6,562
                )
                
                
                (12,263
                )Balance
      at June 30, 2010
                
                
                9,187
                
                
                
                —Weighted
      average grant date fair value per share
                
                $
                2.24
                
                
                $
                —Aggregate
      grant date fair value
                
                $
                21,000
                
                
                $
                —Weighted
      average vesting service period of shares granted
                
                12
      Months
                
                
                12-36
      MonthsNumber
      of shares/units vested at June 30, 2010
                
                
                —
                
                
                
                —Number
      of shares/units non-vested at June 30, 2010
                
                
                9,187
                
                
                
                —


9


BLUEFLY,
INC.


NOTES
TO FINANCIAL STATEMENTS


(UNAUDITED)


JUNE
30, 2010





As of
June 30, 2010, the total compensation cost related to non-vested restricted
stock not yet recognized was $11,000.  Total compensation cost is
expected to be recognized within a one year period on a weighted average
basis.




NOTE
7 – SUBORDINATED CONVERTIBLE NOTES




In July
2008, the Company issued Subordinated Notes in the aggregate principal amount of
$3,000,000 that had a term expiring three years from the date of issuance and
bore interest at the rate of 8% per annum, compounded annually, which was
payable in cash upon maturity or conversion (the “Subordinated
Notes”).  In December 2009, in connection with the Private Placement,
all outstanding Subordinated Notes were converted into shares of Common Stock at
a conversion price of $1.70 per share.




In
connection with the adoption of authoritative guidance relating to determining
whether an instrument (or embedded feature) is indexed to an entity’s own stock,
on January 1, 2009, the Company determined that the embedded conversion feature
included in each of the Subordinated Notes was not indexed to the Company’s own
stock and, therefore, such feature qualified as an embedded derivative financial
liability (the “Embedded Derivative”), which required bifurcation and must be
separately accounted for as a separate instrument.




The
Company measured the fair value of the Embedded Derivative using a Black-Scholes
valuation model as of January 1, 2009 to determine the cumulative effect of the
change in accounting principle to be recorded. The Company recorded a cumulative
effect of the change in accounting principle of approximately $779,000, which
was recognized as a decrease in accumulated deficit at January 1,
2009.  The amount recognized in the Company’s Balance Sheet upon the
initial adoption of the authoritative guidance described above was determined
based on the amounts that would have been recognized if the authoritative
guidance had been applied from the issuance date of the Subordinated Notes and
the amount recognized in the Company’s Balance Sheet upon the initial
application of the authoritative guidance.  In addition, as a result
of the bifurcation, the Company recognized an Embedded Derivative of
approximately $98,000 and a discount on the Subordinated Notes of $877,000,
which reduced the carrying value of the Subordinated Notes at the date of
adoption.  This discount represented additional non-cash interest
expense that was to be amortized over the remaining life of the Subordinated
Notes.




The
Company also re-measured the fair value of the Embedded Derivative at June 30,
2009.  Any change in fair value was recorded as part of interest
expense to related party stockholders.  The assumptions used at June
30, 2009 were as follows:





(Unaudited)June 30, 2009Risk-free
      interest rate
                
                
                1.11
                %Expected
      life (in years)
                
                
                2.06Dividend
      yield
                
                
                0.00
                %Expected
      volatility
                
                
                98.74
                %




Expected
volatility was based on the historical volatility of the price of the Company’s
Common Stock, measured over the same period of time as the remaining maturity
life of the Subordinated Notes.  The risk free interest rate was based
on the interest rate for U.S. Treasury Notes having a maturity period equal to
the then remaining maturity life of the Subordinated Notes.




For the
three and six months ended June 30, 2009, the Company recognized interest
expense in connection with its Subordinated Notes, including changes in fair
value of the Embedded Derivative, which were included in total interest expense
to related party stockholders in the Statement of Operations, as
follows:





(Unaudited)Three Months EndedJune 30, 2009Appreciation
      in fair value of embedded derivative financial liability to related party
      stockholders
                
                $
                127,000Amortization
      of discount on notes payable to related party stockholders
                
                
                87,000Interest
      expense to related party stockholders
                
                
                61,000Total
      interest expense to related party stockholders
                
                $
                275,000


10


BLUEFLY,
INC.


NOTES
TO FINANCIAL STATEMENTS


(UNAUDITED)


JUNE
30, 2010





(Unaudited)Six Months EndedJune 30, 2009Appreciation
      in fair value of embedded derivative financial liability to related party
      stockholders
                
                $
                175,000Amortization
      of discount on notes payable to related party stockholders
                
                
                175,000Interest
      expense to related party stockholders
                
                
                120,000Total
      interest expense to related party stockholders
                
                $
                470,000




NOTE
8 – NET LOSS PER SHARE




Basic net
loss per share excludes dilution and is computed by dividing net loss available
to common stockholders by the weighted average number of common shares
outstanding for the period.




Diluted
net loss per share is computed by dividing net loss available to common
stockholders by the weighted average number of common shares outstanding for the
period, adjusted to reflect potentially dilutive securities using the treasury
stock method for options, warrants, restricted stock awards and deferred stock
unit awards, and the if-converted method for preferred stock and the
subordinated notes.  Due to the Company’s net loss, (i) options and
warrants to purchase shares of Common Stock, (ii) preferred stock and
Subordinated Notes convertible into shares of Common Stock, (iii) restricted
stock awards that have not yet vested and (iv) deferred stock unit awards for
shares that have not yet been delivered were not included in the computation of
diluted loss per share, as the effects would be anti-dilutive. Accordingly,
basic and diluted weighted average shares outstanding are equal for each of the
following periods presented:




Three Months EndedJune 30,2010
                          
                          
                          2009Net
      loss
                          
                          $
                          (724,000
                          )
                          
                          $
                          (186,000
                          )Weighted
      average common shares outstanding (basic)
                          
                          
                          24,597,254
                          
                          
                          
                          13,843,985Options
      and warrants(1)(2)
                          
                          
                          —
                          
                          
                          
                          —Preferred
      stock and subordinated notes(1)
                          
                          
                          —
                          
                          
                          
                          —Restricted
      stock and deferred stock awards(1)
                          
                          
                          —
                          
                          
                          
                          —Weighted
      average common shares outstanding (diluted)
                          
                          
                          24,597,254
                          
                          
                          
                          13,843,985(1)   For
      the three months ended June 30, 2010 and 2009, the Company had weighted
      average shares of the following potentially dilutive securities that were
      excluded:Options
      and warrants
                          
                          
                          47,292
                          
                          
                          
                          —Preferred
      stock and subordinated notes
                          
                          
                          —
                          
                          
                          
                          821,918Restricted
      stock and deferred stock awards
                          
                          
                          9,187
                          
                          
                          
                          269,642(2) 
      Under the treasury-stock method, the Company excluded all options and
      warrants from the computation of weighted average shares outstanding as a
      result of the exercise price of the options and warrants being greater
      than the average market price of the Company’s Common
    Stock.




11


BLUEFLY,
INC.
 NOTES
TO FINANCIAL STATEMENTS
 (UNAUDITED)
 JUNE
30, 2010


Six Months EndedJune 30,2010
                              
                              2009Net
      loss
                              
                              $
                              (2,225,000
                              )
                              
                              $
                              (3,306,000
                              )Weighted
      average common shares outstanding (basic)
                              
                              
                              22,757,060
                              
                              
                              
                              13,838,363Options
      and warrants(1)(2)
                              
                              
                              —
                              
                              
                              
                              —Preferred
      stock and subordinated notes(1)
                              
                              
                              —
                              
                              
                              
                              —Restricted
      stock and deferred stock awards(1)
                              
                              
                              —
                              
                              
                              
                              —Weighted
      average common shares outstanding (diluted)
                              
                              
                              22,757,060
                              
                              
                              
                              13,838,363(1)  
      For the six months ended June 30, 2010 and 2009, the Company had weighted
      average shares of the following potentially dilutive securities that were
      excluded:Options
      and warrants
                              
                              
                              47,292
                              
                              
                              
                              —Preferred
      stock and subordinated notes
                              
                              
                              —
                              
                              
                              
                              821,918Restricted
      stock and deferred stock awards
                              
                              
                              14,482
                              
                              
                              
                              275,222(2) 
      Under the treasury-stock method, the Company excluded all options and
      warrants from the computation of weighted average shares outstanding as a
      result of the exercise price of the options and warrants being greater
      than the average market price of the Company’s Common
    Stock.




NOTE
9 – RECENT ACCOUNTING PRONOUNCEMENTS




In
February 2010, the Financial Accounting Standards Board (“FASB”) issued an
update to authoritative guidance relating to subsequent events, which was
effective upon the issuance of the update.  The Company adopted this
authoritative guidance on February 28, 2010.  The update to the
authoritative guidance relating to subsequent events removes the requirement for
Securities and Exchange Commission filers to disclose the date through which
subsequent events have been evaluated in both issued and revised financial
statements.  The adoption of this update to the authoritative guidance
relating to subsequent events did not impact the Company’s financial position or
operating results other than removing the disclosure.


12


Item
      2.
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations





Overview





Bluefly,
Inc. is a leading Internet retailer that sells over 350 brands of designer
apparel, accessories and home furnishingsat discounts of up to 75%
off of retail value.  We launched our Web Site in September
1998.





Our net
sales increased by approximately 4% to $20,545,000 for the three months ended
June 30, 2010 from $19,858,000 for the three months ended June 30,
2009.  Our gross margin percentage decreased to 38.8% for the three
months ended June 30, 2010 from 39.7% for the three months ended June 30, 2009.
Our gross profit slightly increased by approximately 1% to $7,978,000 for the
three months ended June 30, 2010 from $7,884,000 for the three months ended June
30, 2009. The decrease in our gross margin was primarily attributable to a
decrease in our product margins relating to the growth of our luxury designer
merchandise, which historically have lower margins compared to our contemporary
merchandise and create a higher average order size.  We incurred an
operating loss of $669,000 for the three months ended June 30, 2010 as compared
to an operating income of $161,000 for the three months ended June 30,
2009.  We incurred an operating loss primarily as a result of an
increase in marketing expenses, as we began to invest again in awareness
building marketing programs.





Marketing
expenses (excluding staff related costs) increased to $2,601,000 for the three
months ended June 30, 2010 from $1,578,000 for the three months ended June 30,
2009.  Marketing expenses (excluding staff related costs) increased
primarily as a result of planned increased expenses of $365,000 in our offline
advertising, $343,000 related to integrated marketing programs, $121,000 related
to comparison engines and $108,000 related to affiliate expenses. This planned
increase was a result of a return to awareness building marketing programs,
which were severely reduced during the second quarter of 2009 in response to the
difficult economic environment.  Marketing expenses (including staff
related costs) as a percentage of net sales increased to 13.9% for the three
months ended June 30, 2010 compared to 8.9% for the three months ended June 30,
2009. General and administrative expenses decreased to $1,866,000 from
$1,929,000 for the three months ended June 30, 2009.





Our
reserve for returns and credit card chargebacks increased to 40.1% of gross
sales for the second quarter of 2010 compared to 39.2% for the second quarter of
2009.  The increase was primarily caused by a shift in our merchandise
mix towards luxury designer merchandise, which traditionally have a higher
average order size and slightly higher return rates associated with
them.  However, we believe that this increase in return rates has been
more than offset by higher average order sizes that have been generated by this
shift in merchandise mix.





At June
30, 2010, we had an accumulated deficit of $149,693,000. The cumulative net
losses and accumulated deficit resulted primarily from the costs associated with
developing and marketing our Web Site and building our infrastructure, as well
as non-cash beneficial conversion charges resulting from decreases in the
conversion price of our preferred stock and the payment of dividends to holders
of our preferred stock.




Results
Of Operations




For
The Three Months Ended June 30, 2010 Compared To The Three Months Ended June 30,
2009.




The
following table sets forth our Statements of Operations data for the three
months ended June 30th. All
data is in thousands except as indicated below:





2010
                  
                  
                  2009As a % of
                  
                  
                  
                  
                  
                  As a % ofNet Sales
                  
                  
                  
                  
                  
                  Net SalesNet
      sales
                  
                  $
                  20,545
                  
                  
                  
                  100.0
                  %
                  
                  $
                  19,858
                  
                  
                  
                  100.0
                  %Cost
      of sales
                  
                  
                  12,567
                  
                  
                  
                  61.2
                  
                  
                  
                  11,974
                  
                  
                  
                  60.3Gross
      profit
                  
                  
                  7,978
                  
                  
                  
                  38.8
                  
                  
                  
                  7,884
                  
                  
                  
                  39.7Selling
      and fulfillment expenses
                  
                  
                  3,926
                  
                  
                  
                  19.1
                  
                  
                  
                  4,031
                  
                  
                  
                  20.3Marketing
      expenses
                  
                  
                  2,855
                  
                  
                  
                  13.9
                  
                  
                  
                  1,763
                  
                  
                  
                  8.9General
      and administrative expenses
                  
                  
                  1,866
                  
                  
                  
                  9.1
                  
                  
                  
                  1,929
                  
                  
                  
                  9.7Total
      operating expenses
                  
                  
                  8,647
                  
                  
                  
                  42.1
                  
                  
                  
                  7,723
                  
                  
                  
                  38.9


Operating
      (loss) income
              
              
              (669
              )
              
              
              (3.3
              )
              
              
              161
              
              
              
              0.8Interest
      expense, net
              
              
              (55
              )
              
              
              (0.2
              )
              
              
              (347
              )
              
              
              (1.7
              )Net
      loss
              
              $
              (724
              )
              
              
              (3.5
              )%
              
              $
              (186
              )
              
              
              (0.9
              )%




13




We also
measure and evaluate ourselves against certain other key operational metrics.
The following table sets forth our actual results based on these other metrics
for the three months ended June 30th, as
indicated below:





2010
                        
                        
                        2009Average
      order size (including shipping & handling)
                        
                        $
                        310.39
                        
                        
                        $
                        268.79New
      customers added during the period*
                        
                        
                        36,794
                        
                        
                        
                        38,718*Based
      on unique email addresses





In
addition to the financial statement items and metrics listed above, which are
non-GAAP financial measurements, we also report gross sales, another non-GAAP
financial measure.  We define gross sales as the total dollar amount
of orders received by customers (including shipping and handling) net of
customer credits, but before any reserves are taken for returns or bad
debt.  We believe that the presentation of gross sales is useful to
investors because (a) it provides an alternative measure of the total demand for
the products sold by us and (b) it provides a basis upon which to measure the
percentage of total demand that is reserved for both returns and bad
debt.  Management uses the gross sales measure for these same
reasons.





Net sales:Gross sales for the
three months ended June 30, 2010 increased by approximately 5% to $34,294,000
from $32,684,000 for the three months ended June 30, 2009. For the three months
ended June 30, 2010, we recorded a provision for returns and credit card
chargebacks and other discounts of $13,749,000 or approximately 40.1% of gross
sales. For the three months ended June 30, 2009, the provision for returns and
credit card chargebacks and other discounts was $12,826,000, or approximately
39.2% of gross sales. The increase in this provision as a percentage of gross
sales resulted from a shift in our merchandise mix towards luxury designer
merchandise, which traditionally have a higher average order size and slightly
higher return rates associated with them.  However, we believe that
this increase in return rates has been more than offset by higher average order
sizes that have been generated by this shift in merchandise mix.





After the
necessary provisions for returns and credit card chargebacks, our net sales for
the three months ended June 30, 2010 was $20,545,000. This represents an
increase of approximately 4% compared to the three months ended June 30, 2009,
in which net sales totaled $19,858,000. The increase in net sales resulted
primarily from a 15% increase in average order size. For the three months ended
June 30, 2010, revenue from shipping and handling (which is included in net
sales) decreased approximately 9% to $1,080,000 from $1,187,000 for the three
months ended June 30, 2009.Shipping and handling
revenue decreased primarily as a result of a decrease in the number of customer
orders due to higher average order sizes.





Cost of sales:  Cost
of sales consists of the cost of product sold to customers, in-bound and
out-bound shipping costs, inventory reserves, commissions and packing materials.
Cost of sales for the three months ended June 30, 2010 was $12,567,000 resulting
in a gross margin percentage of approximately 38.8%. Cost of sales for the three
months ended June 30, 2009 was $11,974,000, resulting in a gross margin
percentage of 39.7%. Gross profit slightly increased by approximately 1% to
$7,978,000 for the three months ended June 30, 2010 compared to $7,884,000 for
the three months ended June 30, 2009. The decrease in gross margin is
attributable to a decrease in product margins relating to the growth of our
luxury designer merchandise, which historically have lower margins compared to
our contemporary merchandise and create a higher average order
size.





Selling and fulfillment
expenses:  Selling and fulfillment expenses decreased by
approximately 3% for the three months ended June 30, 2010 compared to the three
months ended June 30, 2009. Selling and fulfillment expenses were comprised of
the following:





Three Months Ended June 30,
                                      
                                      Percentage(All data in
      thousands)
                                      2010
                                      
                                      2009
                                      
                                      DifferenceAs a % of
                                      
                                      
                                      
                                      
                                      As a % of
                                      
                                      IncreaseNet Sales
                                      
                                      
                                      
                                      
                                      Net Sales
                                      
                                      (Decrease)Operating
                                      
                                      $
                                      1,808
                                      
                                      
                                      
                                      8.8
                                      %
                                      
                                      $
                                      1,836
                                      
                                      
                                      
                                      9.3
                                      %
                                      
                                      
                                      (1.5
                                      )%Technology
                                      
                                      
                                      1,341
                                      
                                      
                                      
                                      6.5
                                      
                                      
                                      
                                      1,470
                                      
                                      
                                      
                                      7.4
                                      
                                      
                                      
                                      (8.8
                                      )


E-Commerce
              
              
              777
              
              
              
              3.8
              
              
              
              725
              
              
              
              3.6
              
              
              
              7.1Total
      selling and fulfillment expenses
              
              $
              3,926
              
              
              
              19.1
              %
              
              $
              4,031
              
              
              
              20.3
              %
              
              
              (2.6
              )%


14




As a
percentage of net sales, our selling and fulfillment expenses decreased to 19.1%
for the three months ended June 30, 2010 from 20.3% for the three months ended
June 30, 2009.





Operating
expenses include all costs related to inventory management, fulfillment,
customer service, and credit card processing. Operating expenses decreased for
the three months ended June 30, 2010 by 1.5% compared to the three months ended
June 30, 2009 primarily as a result of decreased variable costs associated with
fulfillment costs (e.g., picking and packing orders and processing returns),
which were partially offset by an increase in credit card fees.





Technology
expenses consist primarily of staff related costs, amortization of capitalized
costs and Web Site hosting. For the three months ended June 30, 2010, technology
expenses decreased by 8.8% compared to the three months ended June 30, 2009.
This decrease was attributable to a decrease in depreciation expense of $104,000
and a decrease in salary and salary related expenses of approximately $55,000,
which were offset by an increase in software support, equipment and Web Site
hosting expenses of approximately $22,000.





E-Commerceexpenses include expenses
related to our photo design studio, image processing, and Web Site design. For
the three months ended June 30, 2010, e-commerce expenses increased by
approximately 7.1% as compared to the three months ended June 30, 2010 primarily
as a result of increases in fees relating to the development of new Web Site
features and functionalities of $70,000 and short-term staffing and shipping
expenses of $42,000, which were partially offset by decreases in expenses
associated with photo shoots of approximately $40,000 and salary and salary
related expenses of $35,000.





Marketing
expenses:Marketing expenses (including staff related costs)
increased by 62% to $2,855,000 for the three months ended June 30, 2010 from
$1,763,000 for the three months ended June 30, 2009.





Marketing
expenses include expenses related to our offline/online integrated marketing
campaign, paid search, email campaigns, comparison engines, fees to affiliates,
and direct mail campaigns as well as staff related costs. As a percentage of net
sales, our marketing expenses (including staff related costs) increased to 13.9%
for the three months ended June 30, 2010 from 8.9% for the three months ended
June 30, 2009.





The
increase in total marketing expenses (excluding staff related costs) was
attributable to increases in both offline and online marketing programs of
approximately $714,000 and $309,000, respectively, including an increase in
expenses related to our offline/online integrated marketing campaign of
approximately $365,000. This increase represented a return to awareness building
marketing programs, which were severely reduced during the second quarter of
2009 in response to the difficult economic environment.We believe that our
investment in these programs is crucial to our long-term growth
strategy.





General and administrative
expenses:
General and administrative expenses include merchandising, finance and
administrative salaries and related expenses, insurance costs, accounting and
legal fees, depreciation and other office related expenses.  General
and administrative expenses for the three months ended June 30, 2010 decreased
by approximately 3% to $1,866,000 as compared to $1,929,000 for the three months
ended June 30, 2009.  The decrease in general and administrative
expenses was primarily the result of decreases in professional fees of $55,000,
salary and salary related expenses of $24,000, facilities maintenance expenses
of $22,000 and rent expense of $20,000, which were partially offset by increases
in franchise tax fees of $51,000.





As a
percentage of net sales, general and administrative expenses for the three
months ended June 30, 2010 decreased to 9.1% from 9.7% for the three months
ended June 30, 2009.





Loss from
operations:  For the three months ended June 30, 2010, we
incurred an operating loss of $669,000 compared to an operating income of
$161,000 for the three months ended June 30, 2009.





Interest expense to related party
stockholders:Interest
expense to related party stockholders for the three months ended June 30, 2010
decreased to $0 as compared to $275,000 for the three months ended June 30,
2009. Interest expense to related party stockholders consisted of accrued
interest expense due upon maturity, non-cash changes in fair value of the
embedded derivative and non-cash amortization of the discount relating to our
outstanding subordinated convertible notes issued to certain related
parties.  There was no interest expense to related party stockholders
for the three months ended June 30, 2010 as the subordinated convertible notes
were converted to common stock in connection with the Private Placement
transaction in December 2009.


15




Other interest expense,
net:Interest
income for the three months ended June 30, 2010 increased to $13,000 from $5,000
for the three months ended June 30, 2009. These amounts related primarily to
interest income earned on our cash balances.




Interest
expense for the three months ended June 30, 2010 decreased to $68,000 compared
to $77,000 for the three months ended June 30, 2009. Interest expense consists
primarily of fees paid in connection with our credit facility.




For
The Six Months Ended June 30, 2010 Compared To The Six Months Ended June 30,
2009.





The
following table sets forth our Statements of Operations data for the six months
ended June 30th. All
data is in thousands except as indicated below:





2010
                    
                    
                    2009As
      a % of
                    
                    
                    
                    
                    
                    As
      a % ofNet
      Sales
                    
                    
                    
                    
                    
                    Net
      SalesNet
      sales
                    
                    $
                    40,785
                    
                    
                    
                    100.0
                    %
                    
                    $
                    39,760
                    
                    
                    
                    100.0
                    %Cost
      of sales
                    
                    
                    24,470
                    
                    
                    
                    60.0
                    
                    
                    
                    25,101
                    
                    
                    
                    63.1Gross
      profit
                    
                    
                    16,315
                    
                    
                    
                    40.0
                    
                    
                    
                    14,659
                    
                    
                    
                    36.9Selling
      and fulfillment expenses
                    
                    
                    7,975
                    
                    
                    
                    19.6
                    
                    
                    
                    8,425
                    
                    
                    
                    21.2Marketing
      expenses
                    
                    
                    6,507
                    
                    
                    
                    16.0
                    
                    
                    
                    4,780
                    
                    
                    
                    12.0General
      and administrative expenses
                    
                    
                    3,957
                    
                    
                    
                    9.7
                    
                    
                    
                    4,099
                    
                    
                    
                    10.3Total
      operating expenses
                    
                    
                    18,439
                    
                    
                    
                    45.2
                    
                    
                    
                    17,304
                    
                    
                    
                    43.5Operating
      loss
                    
                    
                    (2,124
                    )
                    
                    
                    (5.2
                    )
                    
                    
                    (2,645
                    )
                    
                    
                    (6.7
                    )Interest
      expense, net
                    
                    
                    (101
                    )
                    
                    
                    (0.2
                    )
                    
                    
                    (661
                    )
                    
                    
                    (1.6
                    )Net
      loss
                    
                    $
                    (2,225
                    )
                    
                    
                    (5.4
                    )%
                    
                    $
                    (3,306
                    )
                    
                    
                    (8.3
                    )%





We also
measure and evaluate ourselves against certain other key operational metrics.
The following table sets forth our actual results based on these other metrics
for the six months ended June 30th, as
indicated below:





2010
                  
                  
                  2009Average
      order size (including shipping & handling)
                  
                  $
                  294.70
                  
                  
                  $
                  258.88New
      customers added during the period*
                  
                  
                  79,326
                  
                  
                  
                  85,323*Based on unique
      email addresses





Net sales:Gross sales for the
six months ended June 30, 2010 increased by approximately 4% to $67,529,000 from
$64,956,000 for the six months ended June 30, 2009. For the six months ended
June 30, 2010, we recorded a provision for returns and credit card chargebacks
and other discounts of $26,744,000 or approximately 39.6% of gross sales. For
the six months ended June 30, 2009, the provision for returns and credit card
chargebacks and other discounts was $25,196,000, or approximately 38.8% of gross
sales. The increase in this provision as a percentage of gross sales resulted
from a shift in our merchandise mix towards luxury designer merchandise, which
traditionally have a higher average order size and slightly higher return rates
associated with them.  However, we believe that this increase in
return rates has been more than offset by higher average order sizes that have
been generated by this shift in merchandise mix.





After the
necessary provisions for returns and credit card chargebacks, our net sales for
the six months ended June 30, 2010 was $40,785,000. This represents an increase
of approximately 3% compared to the six months ended June 30, 2009, in which net
sales totaled $39,760,000. The increase in net sales resulted primarily from a
14% increase in average order size. For the six months ended June 30, 2010,
revenue from shipping and handling (which is included in net sales) decreased
approximately 10% to $2,138,000 from $2,379,000 for the six months ended June
30, 2009.Shipping
and handling revenue decreased primarily as a result of a decrease in the number
of customer orders due to higher average order sizes.


16





Cost of sales: Cost of sales
for the six months ended June 30, 2010 totaled $24,470,000 resulting in a gross
margin percentage of approximately 40.0%. Cost of sales for the six months ended
June 30, 2009 totaled $25,101,000, resulting in a gross margin percentage of
36.9%. Gross profit dollars increased by approximately 11%, to $16,315,000 for
the six months ended June 30, 2010 compared to $14,659,000 for the six months
ended June 30, 2009. The increase in both gross margin percentage and gross
profit dollars was attributable to an increase in overall product margins due to
a reduction in promotional incentives relative to 2009.





Selling and fulfillment
expenses:  Selling and fulfillment expenses decreased by
approximately 5% for the six months ended June 30, 2010 compared to the six
months ended June 30, 2009. Selling and fulfillment expenses were comprised of
the following:





Six Months Ended June 30,
                                    
                                    Percentage(All data in
      thousands)
                                    2010
                                    
                                    2009
                                    
                                    DifferenceAs a % of
                                    
                                    
                                    
                                    
                                    As a % of
                                    
                                    IncreaseNet Sales
                                    
                                    
                                    
                                    
                                    Net Sales
                                    
                                    (Decrease)Operating
                                    
                                    $
                                    3,712
                                    
                                    
                                    
                                    9.1
                                    %
                                    
                                    $
                                    3,925
                                    
                                    
                                    
                                    9.9
                                    %
                                    
                                    
                                    (5.4
                                    )%Technology
                                    
                                    
                                    2,642
                                    
                                    
                                    
                                    6.5
                                    
                                    
                                    
                                    2,967
                                    
                                    
                                    
                                    7.5
                                    
                                    
                                    
                                    (10.9
                                    )E-Commerce
                                    
                                    
                                    1,621
                                    
                                    
                                    
                                    4.0
                                    
                                    
                                    
                                    1,533
                                    
                                    
                                    
                                    3.8
                                    
                                    
                                    
                                    5.7Total
      selling and fulfillment expenses
                                    
                                    $
                                    7,975
                                    
                                    
                                    
                                    19.6
                                    %
                                    
                                    $
                                    8,425
                                    
                                    
                                    
                                    21.2
                                    %
                                    
                                    
                                    (5.3
                                    )%





As a
percentage of net sales, our selling and fulfillment expenses decreased to 19.6%
for the six months ended June 30, 2010 from 21.2% for the six months ended June
30, 2009.





Operating
expenses decreased for the six months ended June 30, 2010 by approximately 5.4%
compared to the six months ended June 30, 2009 as a result of decreased variable
costs associated with fulfillment costs (e.g., picking and packing orders and
processing returns), which were partially offset by an increase in credit card
fees.





For the
six months ended June 30, 2010, technology expenses decreased by approximately
10.9% compared to the six months ended June 30, 2009. This decrease was
attributable to decreased depreciation expenses, included in technology
expenses, of approximately $221,000, salary and salary related expenses of
$129,000 and consulting fees of $38,000, which were partially offset by an
increase in software support expenses of approximately $64,000.





For the
six months ended June 30, 2010, e-commerce expenses increased by approximately
5.7% as compared to the six months ended June 30, 2009, primarily as a result of
increases in expenses relating to the development of new Web Site features and
functionalities.





Marketing
expenses:Marketing expenses (including staff related costs)
increased by 36% to $6,507,000 for the six months ended June 30, 2010 from
$4,780,000 for the six months ended June 30, 2009.





As a
percentage of net sales, our marketing expenses (including staff related costs)
increased to 16.0% for the six months ended June 30, 2010 from 12.0% for the six
months ended June 30, 2009.





The
increase in total marketing expenses (excluding staff related costs) was mainly
attributable to an increase in both offline and online marketing programs
expenses of approximately $990,000 and $491,000, respectively, and an increase
in offline/online integrated marketing expenses of approximately
$525,000.  This increase in marketing expenses represented an increase
in awareness building marketing programs, which were severely reduced in the
first half of 2009 in response to the difficult economic
environment.





General and administrative
expenses:
General and administrative expenses for the six months ended June 30, 2010
decreased by approximately 3% to $3,957,000 as compared to $4,099,000 for the
six months ended June 30, 2009.  The decrease in general and
administrative expenses was primarily the result of a decrease in professional
fees of $119,000, facilities maintenance expenses of $70,000, expenses related
to equity based compensation of approximately $66,000 and rent expense of
$52,000.  These decreases in general and administrative expenses were
partially offset by increases in franchise tax fees of $114,000, public company
expenses of $38,000 and salary and salary related expenses of approximately
$38,000.





As a
percentage of net sales, general and administrative expenses for the six months
ended June 30, 2010 decreased to approximately 9.7% from 10.3% for the six
months ended June 30, 2009.


17


Loss from
operations:  Operating loss decreased in the six months ended
June 30, 2010 to $2,124,000 from $2,645,000 in the six months ended June 30,
2009.





Interest expense to related party
stockholders:Interest
expense to related party stockholders for the six months ended June 30, 2010
decreased to $0 as compared to $512,000 for the six months ended June 30, 2009.
Interest expense to related party stockholders consisted primarily of accrued
interest expense due upon maturity, non-cash changes in fair value of the
embedded derivative and non-cash amortization of the discount relating to our
outstanding subordinated convertible notes issued to certain related parties.
There was no interest expense to related party stockholders for the six months
ended June 30, 2010 as the subordinated convertible notes were converted to
common stock in connection with the Private Placement transaction in December
2009.





Other interest expense,
net:Interest
income for the six months ended June 30, 2010 increased to $24,000 from $10,000
for the six months ended June 30, 2009.





Interest
expense for the six months ended June 30, 2010 decreased to $125,000 compared to
$159,000 for the six months ended June 30, 2009.





Liquidity
And Capital Resources




General




At June
30, 2010, we had approximately $11.6 million in cash and cash equivalents
compared to $10.0 million and $1.8 million at December 31, 2009 and June 30,
2009, respectively. Working capital at June 30, 2010 and 2009 was $27.8 million
and $14.3 million, respectively.  Working capital at December 31, 2009
was $19.4 million.  As of June 30, 2010, we had an accumulated deficit
of approximately $149.7 million.  We have incurred negative cash flows
and cumulative net losses since inception.





During
the first half of 2010, we completed the Second Closing of the Private Placement
financing with Rho in which we received approximately $10,020,000, net of
$243,000 of issuance costs.





We
believe that our existing cash balance, combined with working capital and the
funds available from our credit facility will be sufficient to enable us to meet
planned expenditures through at least the next 12 months.  There can
be no assurance that we will achieve or sustain positive cash flows from
operations or profitability.





Credit
Facility




We have a
credit facility with Wells Fargo Retail Finance LLC (“Wells
Fargo”).  Pursuant to the terms of the credit facility, Wells Fargo
provides us with a revolving loan and issues letters of credit in favor of
suppliers or factors.  The credit facility is secured by a lien on
substantially all of our assets. Availability under the credit facility is
determined by a formula that takes into account a certain percentage of our
inventory and a certain percentage of our accounts receivable. The maximum
availability is currently $7,500,000, but can be increased to $12,500,000 at our
request, subject to certain conditions.  As of June 30, 2010, total
availability under the credit facility was approximately $6.3 million of which
$3.1 million was committed for letters of credit in favor of suppliers, leaving
approximately $3.2 million available for further borrowings. The terms of the
credit facility contain a material adverse condition clause.  In the
event of a material adverse change in our financial condition, we would not be
able to obtain additional borrowings under the credit facility and existing
borrowings would become due and payable.




Interest
accrues monthly on the average daily amount outstanding under the credit
facility during the preceding month at a per annum rate equal to the prime rate
plus 0.75% or LIBOR plus 3.25%. We also pay a monthly commitment fee on the
unused portion of the credit facility (i.e., $7,500,000 less the amount of loans
outstanding) equal to 0.75% and a servicing fee of $3,333 per
month.  We also pay Wells Fargo certain fees to open letters of credit
and guarantees in an amount equal to a certain specified percentage of the face
amount of the letter of credit for each thirty (30) days of such letter of
credit, or a portion thereof, remains open.




Both
availability under our credit facility and our operating cash flows are affected
by the payment terms that we receive from suppliers and service providers, and
the extent to which suppliers require us to provide credit support under our
credit facility.  In some instances, new vendors may require
prepayments. We may make prepayments in order to open up these new
relationships, or to gain access to inventory that would not otherwise be
available to us. In addition, from time to time we make prepayments in
connection with our advertising campaign, as in some circumstances we need to
pay in advance of media


18


placements.
As of June 30, 2010, we had approximately $704,000 of prepaid inventory and
approximately $28,000 of prepaid marketing on our Balance Sheet compared to
$238,000 and $12,000, respectively, as of December 31, 2009 and $101,000 and
$63,000, respectively, as of June 30, 2009.




Commitments
and Long-Term Obligations




As of
June 30, 2010, we had the following commitments and long-term
obligations:





Less Than
                    
                    
                    
                    
                    
                    
                    
                    
                    More ThanTotal
                    
                    
                    1Year
                    
                    
                    1-3Years
                    
                    
                    3-5Years
                    
                    
                    5YearsMarketing
      and advertising
                    
                    $
                    3,930,000
                    
                    
                    $
                    3,930,000
                    
                    
                    $
                    —
                    
                    
                    $
                    —
                    
                    
                    $
                    —Operating
      leases
                    
                    
                    6,062,000
                    
                    
                    
                    381,000
                    
                    
                    
                    939,000
                    
                    
                    
                    1,147,000
                    
                    
                    
                    3,595,000Employment
      contracts
                    
                    
                    5,168,000
                    
                    
                    
                    2,205,000
                    
                    
                    
                    2,963,000
                    
                    
                    
                    —
                    
                    
                    
                    —Total
      commitments and long-term obligations
                    
                    $
                    15,160,000
                    
                    
                    $
                    6,516,000
                    
                    
                    $
                    3,902,000
                    
                    
                    $
                    1,147,000
                    
                    
                    $
                    3,595,000




We
believe that in order to grow the business, we will need to make additional
marketing and advertising commitments in the future.  However, our
marketing budget is subject to a number of factors, including our results of
operations.




Item
3. Quantitative and Qualitative Disclosures About Market Risk




We have
assessed our vulnerability to certain market risks, including interest rate risk
associated with financial instruments included in cash and cash equivalents. Due
to the short-term nature of these instruments, we have determined that the risks
associated with interest rate fluctuations related to these financial
instruments do not pose a material risk to us.




Item
4T.  Controls and Procedures.




As of the
end of the period covered by this Form 10-Q (the “Evaluation Date”), we carried
out an evaluation, under the supervision and with the participation of our
management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). Based
upon that evaluation, our Chief Executive Officer and Chief Financial Officer
concluded that, as of the Evaluation Date, our disclosure controls and
procedures were effective in ensuring that information required to be disclosed
by us in the reports that we file or submit under the Exchange Act were
recorded, processed, summarized and reported, within the time periods specified
in the SEC’s rules and forms, and were effective to ensure that information
required to be disclosed by us in the reports that we file or submit under the
Exchange Act was accumulated and communicated to our management, including our
Chief Executive Officer and Chief Financial Officer, to allow timely decisions
regarding required disclosure.  There have been no changes in our
internal control over financial reporting that occurred during the Company's
most recent fiscal quarter that have materially affected, or are reasonably
likely to materially affect, the Company's internal control over financial
reporting.


19


Special
Note Regarding Forward Looking Statements





This
report may include statements that constitute "forward-looking" statements,
usually containing the words "believe", "project", "expect", or similar
expressions. These statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. Forward-looking statements
inherently involve risks and uncertainties that could cause actual results to
differ materially from the forward-looking statements. The risks and
uncertainties are detailed from time to time in reports filed by us with the
Securities and Exchange Commission, including Forms 8-K, 10-Q and 10-K. These
risks and uncertainties include, but are not limited to, the
following:  our history of losses and anticipated future losses; risks
associated with the economic downturn; risks associated with affiliates of Rho
Ventures, LP, affiliates of Soros Fund Management, private funds associated with
Maverick Capital Ltd. and affiliates of Prentice Capital Management, LP each
owning a significant portion of our stock; the potential failure to forecast
revenues and/or to make adjustments to our operating plans necessary as a result
of any failure to forecast accurately; unexpected changes in fashion trends;
cyclical variations in the apparel and e-commerce markets; risks associated with
our dependence on one supplier for a material portion of our inventory; the risk
of default by us under our credit facility and the consequences that might
arise from us having granted a lien on substantially all of our assets under
that agreement; risks of litigation related to the sale of unauthentic or
damaged goods and litigation risks related to sales in foreign countries; our
potential exposure to product liability claims in the event that products sold
by us are defective; the dependence on third parties and certain relationships
for certain services, including our dependence on UPS and USPS (and the
risks of a mail slowdown due to terrorist activity) and our dependence on our
third-party web hosting, fulfillment and customer service centers; online
commerce security risks; the success of our advertising campaign; our ability to
raise additional capital, if needed, to support the growth of our business;
risks related to brand owners’ efforts to limit our ability to purchase products
indirectly; management of potential growth; the competitive nature of our
business and the potential for competitors with greater resources to enter the
business; the availability of merchandise; the need to further establish brand
name recognition; risks associated with our ability to handle increased traffic
and/or continued improvements to our Web Site; rising return rates; dependence
upon executive personnel who do not have long-term employment agreements; the
successful hiring and retaining of new personnel; risks associated with
expanding our operations; risks associated with potential infringement of
other’s intellectual property; the potential inability to protect our
intellectual property; government regulation and legal uncertainties;
uncertainties relating to the imposition of sales tax on Internet sales; our
ability to utilize our net operating losses; and the effectiveness of our
internal controls.


20


Part
II  - OTHER INFORMATION




Item
6.   Exhibits





The
following is a list of exhibits filed as part of this Report:





Exhibit Number
              
              Description10.1
              
              Amended
      and Restated Employment Agreement, dated as of April 27, 2010, by and
      between the Company and Melissa Payner (incorporated by reference to
      Exhibit 10.1 to the Current Report on Form 8-K filed by the Company with
      the Securities and Exchange Commission on April 30,
  2010).10.2
              
              Second
      Amended and Restated Employment Agreement, dated as of April 27, 2010, by
      and between the Company and Kara Jenny (incorporated by reference to
      Exhibit 10.2 to the Current Report on Form 8-K filed by the Company with
      the Securities and Exchange Commission on April 30,
  2010).31.1
              
              Certification
      Pursuant to Rule 13a-14(a)/15d-14(a).31.2
              
              Certification
      Pursuant to Rule 13a-14(a)/15d-14(a).32.1
              
              Certification
      Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
      the Sarbanes-Oxley Act of 2002.32.2
              
              Certification
      Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of
      the Sarbanes-Oxley Act of
2002.


21


SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.





BLUEFLY,
      INC.By:
                      /s/ Melissa
Payner-GregorMelissa
      Payner-GregorChief
      Executive OfficerBy:
                      /s/ Kara B. JennyKara
      B. JennyChief
      Financial
Officer





August 6,
2010




22